Tuesday, May 06, 2008

Is the Housing Crisis Over?

by Calculated Risk on 5/06/2008 12:19:00 PM

From an opinion piece in the WSJ this morning, hedge fund manager Cyril Moulle-Berteaux argues: The Housing Crisis Is Over

The dire headlines coming fast and furious in the financial and popular press suggest that the housing crisis is intensifying. Yet it is very likely that April 2008 will mark the bottom of the U.S. housing market. Yes, the housing market is bottoming right now.
Mr. Moulle-Berteaux appears to be arguing that new home sales have bottomed, not prices or new home construction. He ignores the existing home market (with the huge overhang of supply, especially distressed supply), and that leads Moulle-Berteaux to an inaccurate conclusion.

It is actually possible that new home sales may be nearing the bottom of this cycle, however that doesn't mean the "housing crisis is over" - far from it.

I'm not here to correct all the errors in this piece. As an example, Moulle-Berteaux writes "residential construction" when he means "residential investment" (RI) - there is a difference, since RI includes home improvement, broker's commissions and a some other components, while Moulle-Berteaux appears to be focusing on the new home market.

But, in addition to the crisis being far from over, there is another major logical error in the piece (this flawed argument was made by many housing bulls during the bubble). Moulle-Berteaux writes:
[I]f one buys a house with a mortgage, the most important factor in deciding what to pay for the house is how much of one's income is required to be able to make the mortgage payments on the house.
No.

Imagine that income was steady, but the available mortgage rate varied every year - during odds years the mortgage rate was low, in even years it was much higher - high enough to double the monthly payment. In Moulle-Berteaux' world, home buyers would be willing to pay twice as much during odd years than even years. That is laughable.

Although some buyers behave this way, the correct way to measure affordability is price to income, not price to monthly payment. Interest rates do have some impact on price - lower rates can lead to more demand because they change the ratio of the buy-rent decision, but the impact is pretty minor.

Moulle-Berteaux concludes:
[H]ousing led us into this credit crisis and this recession. It is likely to lead us out. And that process is underway, right now.
Yes, housing led us into the credit crisis, but because of the huge overhang of existing home supply (especially distressed supply that is growing as prices fall), housing will not be an engine of recovery any time soon.

Felix Salmon at Market Movers has more.
Mr Moulle-Berteaux's prognostications are based on the idea that this housing crunch will resemble previous crunches. But we already know that it won't: it's become a cliché to say that this is the biggest housing crunch since the Depression. Even if prices come back down to where people are willing to buy, those people might well still not be able to buy. And if we have to wait for them to save up their downpayment, it's going to be a long time until there's a housing-market recovery.